Islamic banking in india

Introduction of Islamic Banking and Finance in India-Overview

1. ISLAMIC BANKING IN INDIA: DEVELOPMENTS, PROSPECTS AND CHALLENGES Fashioned Adil

2. ISLAMIC BANKING IN INDIA: DEVELOPMENTS, PROSPECTS AND CHALLENGES Islamic Banking is a system of banking based on Islamic law (known as Shariah ). Shariah forbids the payment or acceptance of interest ( known as riba or usury) for the well being of the society . Interest from the conventional bank and economic arguments can lead to the divide between the rich and poor, and inflation which can create financial and economic instabilities . Islamic banking has grown out from the conventional banking only in the year 1971. However , still at infancy stage, its growth has been tremendous and impressive. Now, not only Muslim countries but also Western countries have adopted Islamic banking. Despite the growth and confidence towards Islamic banking, there are still few countries which have not implemented Islamic banking in their economies, including India.

3. Global outlook on Islamic finance Islamic Banking is a value based system that principally aims at ensuring moral and material well being of the individual and society as a whole (Ahmad , 1994; Naqvi, 1981; Zarqa , 1983 ). Islamic Development Bank and Dubai Islamic Bank, has been significant growth in Islamic banking industry ( Warde , 2000 ). Nowadays, conventional banks jointly contribute to the growth of Islamic finance via Islamic Window ( Schoon , 2008).

4. Cont. There are over 500 Islamic banking institutions operating all over the world from Africa and Europe to Asia and Australia. According to International Islamic Finance Forum, the total assets under management world over in Islamic Banking and Finance are predicted to increase to $1 trillion by 2013 ( Shamshad , 2011). The Asian Development Bank projected Islamic Banks’ annual growth at more than 50% over the next 5-10 years. Highly potential global market of 2 billion Muslims is drawing tremendous attention from players all over the world (Khan et al., 2012).

5. Cont. To support the growth and development of Islamic banking and finance in Singapore, the Monetary Authority of Singapore has set the development of Islamic finance as one of its priority and has accordingly aligned tax policies. Even , China has opted for Islamic banking to pool Islamic Investment Funds. Malaysia has proven itself as pioneer of Islamic banking and finance. There are 16 Islamic banks and 5 International Islamic banks in Malaysia (Bank Negara Malaysia, 2011). More than 40% of the investors and 60% borrowers in Islamic banks are non-Muslims . One-fifth(1/5) customers of Malaysian Islamic banks of Britain are non-Muslims. Therefore, it can be said that Islamic banking is not just for Muslims but it’s a mechanism(system) for financing business to all without charging interest.

6. . Segrado (2005) has observed that Islamic banking is growing at an average rate of 15% a year, which makes it the fastest growing sector in the financial markets of the modern-day world. The Asia-Pacific region accounts for 60% of the global Islamic banking market and this proves the potential of Islamic banks (Platt, 2009). According to Zaher and Hassan (2001), Islamic banking is making waves in all corners of the world from Malaysia, through the Middle East and Africa, to Europe and America .

7. DEVELOPMENT OF ISLAMIC BANKING IN INDIA HISTORICAL DEVELOPMENTS: According to Shariq Nisar , it can be classified as literary and practical. The literature available was primarily in Urdu, the rest being either in English or in Arabic. The first book published in English on the Islamic finance was Islam and the Theory of Interest in 1946 written by Professor Anwar Iqbal Qureshi of Usmania University Hyderabad. On the practical side, Anjuman Mowudul Ikhwan a welfare association, established in 1890 by a famous alim of Hyderabad . In north India, the Muslim Fund Tanda Bavli , Rampur was established in 1941. Unfortunately, the fund was closed due to partition of India. After about fifteen years since partition, the Muslim Fund Deoband (MFD) was established in the year 1961, and is still operating. Muslim Fund Najibabad (MFN) was established on the model of MFD in 1971. In 1990, MFN floated a subsidiary, Al- Najib Milli Mutual Benefits Ltd. ( Bagsiraj , 2002a ).

8. Inhibition: a feeling of embarrassment or worry that prevents you from saying or doing what you want: In western India, the Patni Co-operative Credit Society, Surat (Gujarat) was established in 1938 and is still in operation to provide interest free loans to its members without any collateral security or service charges. This region showed great efforts to establish a co-operative credit society . The result of the efforts was recognized in the form of establishment of the Modern Education Social and Cultural Organization (MESCO ) by a few college students of Bombay (now Mumbai) in the year 1968. MESCO led to the establishment of Baitun -Nasr Urban cooperative credit society (BUN), commenced functioning in the year 1973. Restriction on the operation of the society beyond the geographical boundary of Bombay and certain other restrictions leads to the formation of Barkat Investment Group (BIG) in the year 1983 ( Nisar , 2002). BIG and Tata Mutual Fund came together in 1996 to launch a mutual fund scheme especially designed for Muslims in view of their inhibitions about interest , though it has never being regarded as Shariah compliant fund as no Shariah advisor involved for screening of the fund .

9. RECENT DEVELOPMENTS Over the last decade, a number of significant changes have occurred in the Indian banking sector with a view to raise the efficiency and productivity of banks as a whole . ANAND SINHA COMMITTEE: With an objective to reach the banking system to more people in India, Reserve Bank of India (RBI) had constituted a committee in June 2005 to examine financial instruments used in Islamic banking headed by Mr. Anand Sinha, deputy director of RBI. Two observations were made by the committee ; First, appropriate modification should be made in banking regulation act 1949 along with separate rules and regulations. Secondly, taxation proposition have to be examined. But, the idea of Islamic banking was rejected by RBI saying that it is not feasible for Indian banks to undertake Islamic banking or to allow their branches to carry out Islamic banking operations abroad without amendments in current related banking and other laws.

10. RAGHURAM RAJAN COMMITTEE In 2008, the Planning Commission of India appointed a committee, headed by International Monetary Fund (IMF) former chief economist, Raghuram Rajan , to recommend various ways to take the country’s financial sector reforms forward. Raghuram Rajan committee has made two major recommendations. These recommendations have given a boost to the demand of Islamic banking in India. First, committee recommended that measures should be taken to permit the delivery of interest free finance on a larger scale, through the banking system and this is in accordance with the objectives of inclusion and growth through innovation. The committee affirms that interest free banking is currently provided in a limited manner through Non Banking Financial Companies (NBFC) and cooperatives. Second, the committee believed that it would be possible only through appropriate measures to create a framework for such products without any adverse systemic risk impact.

11. PARLIAMENTARY COMMITTEE Apart from the two important committees, there was another important development which has provided strength to the demand of Islamic banking and finance in India. It was revealed from the report of the Parliamentary committee set up by Prime Minister, headed by Mr.Rahman Khan Ex-deputy chairman Rajya Sabha has recommended to create a Hajj pilgrimage fund based on Shariah principles. Lack of Shariah compliant investment opportunities in India has discouraged Muslims to invest, not only through banks but also through stock market. The Securities and Exchange Board of India (SEBI) has given approval for India’s first official Shariah compliant mutual fund scheme “Taurus ethical fund” in 2009. The Taurus Mutual Funds and Parsoli corp. had applied the fund’s offer document in October 2007, initially SEBI had some reservations on the fund, as it targeted a particular community (Islamic Finance News, 2009).

12. KERALA GOVERNMENT INITIATIVE In 2010, Kerala State Industrial Development Corporation (KSIDC), a wholly owned Kerala state government company, got into an agreement with Al Barakah group to offer Shariah compliant finance to the Muslim community. In the proposed Islamic financial institution, KSIDC holds 11 % stake. However, The government order was challenged by Janata Party leader Subramanian Swamy in the Kerala High Court arguing that association of government agencies in setting up Islamic investment company goes against secular principles preserved in Indian constitution and was stayed on grounds of violation of Article 14, 25, and 27. In February 2011, Kerala High court has dismissed the petition filed by Subramanian Swamy and maintained setting up of an Islamic investment company.

13. PRESENT SCENARIO In June 2012, Chairman of national commission for minorities has proposed to Ministry of Finance ( MoF ) to take a fresh account of the matter after RBI has again rejected the possibility of Islamic banking in India. Consequently, MoF has asked the RBI to examine the possibility of Islamic banking model a part of Indian banking system. In October 2012, RBI governor confirmed their discussion with MoF on amendments in existing laws to accommodate Islamic banking in India ( Unnikrishnan , 2012). This positive move of RBI certainly paves a path and gives an insight of the future of Islamic banking in India.

14. Cont. India has strong ability to emerge as a potential market for Islamic banking, provided there is supportive political environment and increased awareness among people in India as a whole. Presently, there is no Islamic bank in India except few Shariah compliant funds and several other Islamic financial institutions and credit cooperative societies. India is in prime need of an Islamic bank because as per Sachar committee report, about 80% Indian Muslims are financially excluded due to interest based deposit and credit from conventional banks. In addition to that, RBI reports that Muslims have a Credit Deposit Ratio (CDR) of 47% against the national average of 74% ( Majumdar , 2008). It is to note that CDR is a monetary tool which maximizes the credit flow and ensures better deployment of credit. As per the RBI, if the CDR is low, the weaker sections will be the most affected along with other borrowers. Hence, the lesser credit flow from banks to Muslims would widen the gap between the weaker sections and economically sound sections.

15. . The people have started to realize that Islamic banks are not a threat but an opportunity for economic growth . According to Fiorina (2008) Islamic banking will be benefited from the new customer’s interest and grow even more quickly than it recently did. In addition, corporate giants like Tesco (UK) and Toyota (Japan) have used Islamic financial instruments to fulfil capital requirements ( DiVanna and Sreih , 2009). This proves that not only individuals, but also corporate giants have showed confidence in Shariah compliant financial instruments .

16. Suggestions Indian government should allow conventional banks to open an Islamic banking window for early development of Islamic banking system.